Why Canadian Stocks Could Soar

It may be hard to remember now, with the S&P 500 still setting records in an improbable multiyear bull run. But it wasn’t that long ago that U.S. investors were lamenting the “lost decade” of the 2000s, when a tech bubble, a financial crisis, and two recessions left shareholders with little to show for their troubles.

So spare a moment of compassion for our Canadian cousins, who have been muddling through their own lost decade. Unlike the S&P index, Canada’s TSX Composite index remains below its pre-recession peak. The culprit: the index’s emphasis on natural-resources and energy industries, which account for about half the stocks in the TSX—leaving overall prices vulnerable to a commodities slump. That is exactly what investors have witnessed in recent years, with sluggish global growth and persistent China worries hurting everything from petroleum to potash.

The results: five straight years in which Canadian equities underperformed their U.S. counterparts, and a bearishness about the country in general among investors. “People were positioned for oil to go to zero, for Canada to go bankrupt, and for British Columbia and the Maritime provinces to fall into the ocean,” quips Brian Belski, the New York City–based chief investment strategist for BMO Capital Markets. He adds, dryly, “They did not.”

Late last year, Belski predicted that Canada would outperform the U.S. in 2016—a call that he says was “widely panned” at the time. But through the first eight months of this year, that prediction has been spot-on. Year to date the TSX is up roughly 12%, besting the S&P 500 by six percentage points. Thank the commodity rally, a weak Canadian dollar (popularly termed the “loonie”) that boosts exports, and a new, stable government under Justin Trudeau that has contrasted favorably to the wild political situations south of the border and across the Atlantic.

Canada’s GDP growth forecasts look rosy, if not necessarily racy, with TD Economics predicting a solid 1.9% for 2017. If trends hold, that would best the U.S., whose growth the Conference Board pegs at 1.7% for 2017, and the Brexit-haunted eurozone, which Focus Economics sees decelerating to 1.4%.

Investors face two big questions: Does this Canadian bull still have room to run? And can they bet on Canada without doubling down on the volatile ­resource industries that have given everyone fits over the past two years?

The first question elicits a confident yes. “If you go back 35 years and look at price-to-book ratios compared to the U.S., Canada has never been cheaper on a relative basis,” says Matt Barasch, chief Canadian equity strategist for RBC Capital Markets. “For us that’s the real kicker. You think of factors like commodities starting to work and earnings recovering, and we think it’s a pretty interesting valuation setup.” As for the second query, savvy investors can find plenty of stock plays that don’t involve gold mines or oilfields.

The set-it-and-forget-it way to add a rasher of Canadian bacon to a portfolio is iShares MSCI Canada(ewc). That ETF captures the returns of more than 85% of the Canadian market and has romped by over 17% year to date. Among actively managed U.S. funds, there is only one game in town: the $1.3 billion Fidelity Canada(ficdx). The fund’s five-year returns are predictably ­gruesome—it’s still about 10% below where it was in the summer of 2011. But under portfolio manager Risteard Hogan, Fidelity Canada has been firing on all cylinders this year, up almost 17% through mid-August.

Fidelity Canada owns a healthy dollop of energy holdings, at over 20% of its portfolio. Hogan highlights one oil-sands play: Suncor Energy(su). With a solid balance sheet going into the recent crude price slump, it was able to keep investing rather than sell off assets at fire-sale prices, as competitors did. With oil having risen from its bottom this year, Hogan says, Suncor is spring-loaded for gains.

“People were positioned for oil to go to zero, for Canada to go bankrupt.” Guess what: “They did not.”

“I like long-life resource plays, and Suncor is a particularly well-managed one,” says Hogan, noting its alluring 3.2% dividend yield. The company’s oil-sands projects have drawn a fair share of fire for their environmental impact. But for investors who believe that their benefits outweigh their downsides, such projects can deliver steady revenues for “30 or 40 years, with little reinvestment risk,” Hogan says.

The Canadian market also appeals to one fiercely devoted group: goldbugs. Canada is one of the world’s largest gold producers, and skittish investors who feel bearish about the rest of the global economy often wind up boosting Canada’s mining companies. With the European Union breaking down, central banks slashing interest rates, and the prospect of a Trump or Clinton presidency making many Americans grumpy, gold funds have been on a tear. Invesco Gold & Precious Metals, Vanguard Precious Metals and Mining, and Tocqueville Gold each have more than 50% Canada ­exposure. All are up roughly 75% on the year and yet still remain far below their most recent highs from 2011.

Lest you think that every adult in Canada makes a living by extracting stuff out of the ground, it’s worth noting that energy and natural-resource industries account for only about 15% of Canada’s GDP. There are plenty of companies in other industries that are reliable, under-the-radar cash machines.

To wit: George Weston Ltd.(wngrf), parent company of the Loblaws grocery chain and Shoppers Drug Mart drugstores. “They have good infrastructure in place, excellent cash flow, and aren’t being pressured by foreign discounters,” Hogan says. The company pays a 1.5% dividend, and the stock is up more than 10% year to date. (Other major holdings in Hogan’s fund include Canadian National Railway and Rogers Communications.)

Canada’s banks, meanwhile, have generated huge profits so reliably that a favorite pastime of Canadians is to complain about them. Unlike their risk-loving American counterparts, they emerged from the financial crisis relatively unscathed. And while the Bank of Canada, like other global central banks, slashed benchmark interest rates during the crisis, it hasn’t cut as close to the bone as the Federal Reserve and its eurozone counterparts have, giving Canada’s banks a little more wiggle room to earn profits.

Maple Leaf Moneymakers

Canada’s stock market has often risen and fallen with the prices of oil and other commodities. Investors can play a Canadian recovery by doubling down on natural resources—but they can also find plenty of opportunity outside that sector.

Consumer PlaysRetail and Media

Canada’s GDP growth outlook for the next year-plus is better than those in the U.S. and Europe, boosting the country’s odds of whittling down its 6.9% unemployment rate. That, in turn, could give a nudge to consumer spending, which would be good news for retail conglomerate George Weston, doughnut chain Tim Hortons, and media companies Rogers Communication and Bell Media.

Financial SectorBig Banks Thrive

Banks in Canada took fewer risks than their American counterparts during the 2000s and survived the financial crisis with far less trauma. Canada’s central bank, meanwhile, hasn’t cut rates as aggressively as those in other countries. That has made it easier for big Canadian financial companies like Toronto-Dominion Bank and Royal Bank to earn bigger profits—and to pay healthy dividends.

Mining StocksA Year of Glitter

Canada is home to many global mining giants, including Goldcorp, Franco-Nevada, and Turquoise Hill—all of which benefit from global jitters that have driven up the price of gold. Investors who think that trend will continue can play it with a fund like Vanguard Precious Metals, whose portfolio is more than 50% Canadian and whose 0.35% expense ratio is relatively low.

Going All InA Canada ETF

As measured by price-to-book ratios, Canadian stocks are historically cheap, according to Matt Barasch, chief Canadian equity strategist for RBC Capital Markets. As a simple way to play the entire country, investors can buy the iShares MSCI Canada ETF. That fund mirrors Canada’s stock market, which means financial and energy stocks combine to make up more than 60% of the portfolio.

The banks “collectively yield more than 4%, have never cut their dividends, are well-capitalized, and are trading at 11 times earnings,” says RBC’s Barasch. With oil coming off the mat, Canadian real estate continuing to perform strongly, and macro worries already baked into share prices, he adds, “things don’t even have to be great—they just have to be not as bad as people think.”

RBC analysts are fond of Toronto-Dominion Bank(td), more widely known as TD Bank. With its Canadian franchise paired with a strong business in the Northeastern U.S., Barasch says the $80-billion-­market-cap company has the unique ability to “play both sides of the fence.”

The lack of respect for Canadian equities in general has some analysts scratching their heads. “The smart money has been doing things like trying to pick a bottom in European banks after the Brexit,” says BMO’s Belski. “Why would you do something like that when you are sitting right next door to a Loblaws store or Bell Media or Canadian Tire or [doughnut empire] Tim Hortons?”

“These are real brands that are not going away,” Barasch adds. “In uncertain times, investors are going to seek that kind of stability.”

A version of this article appears in the September 1, 2016 issue of Fortune with the headline “Northern Exposure.”

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